Hydrofarm Holdings Group Inc. Q1 2023 Earnings Call

Speaker 1: I.

Speaker 2: Good day ladies and gentlemen and thank you for standing by. Welcome to the Hydrofarm Holdings Group first quarter 2023 earnings conference call. At this time all participants have been placed in a listen only mode and the lines will be loaded.

Speaker 3: Thank you and good afternoon. What's me on the call today is Bill Toler, Hydrofarm's Chairman and Chief Executive Officer and John Lindeman, the company's chief financial officer. By now, everyone should have access to our first quarter, 2023 earnings release and form a K-issue today after market closed.

Speaker 3: These documents are available on the Investor section of Hydroforms website at www.hydroform.com.

Speaker 3: Before we begin our formal remarks, please note that our discussions today will include four looking statements. These four looking statements are not guaranteed to feature performance and therefore you should not put undue reliance on them. These statements are also subject to numerous risks and uncertainties that could cause the actual results to differ materially from our current expectations. We refer all of you to our recent SEC filings for a more detailed discussion of the risks that

Speaker 3: and reconciliation to comparable GAAP measures are available in our earnings relief. With that, I would like to turn the call over to Bill Toler.

Speaker 4: Great, thank you, Annika, good afternoon everyone. During the first quarter we continued to see signs of stabilization in the industry. As we saw our first quarter sales increased sequentially from Q4 2022 to Q1 2023.

Speaker 4: We remain focused on controlling and cutting costs to hydropharm, including right-sizing our business, making operations as efficient as possible and managing for profitability. We are seeing positive industry signals, which I'll talk about more shortly, and we're more confident that the industry will return to growth.

Speaker 4: I am proud of the hard work done by the entire team in hydroform to shape our business into a leaner and stronger organization. We appreciate the work our team has done. These actions have a better position than ever to take advantage of growth opportunities that lie ahead. I'll point to a few of the key accomplishments during the quarter.

Speaker 4: I'll discuss the positive signs as well as the challenges that we are currently seeing.

Speaker 4: We continue to execute on our previously announced restructuring initiative.

We completed the consolidation of our Canadian nutrient manufacturing facility, the closing of our regional office in China, as well as the relocation of our distribution center in Western Canada. In January , we completed the sale leaseback of our property in Eugene, Oregon, which serves as a location for the manufacturing and processing for some of our grow media and nutrient brands.

We received a little over $8 million in net proceeds from the transaction.

Turning to a recent achievement regarding innovation, one of our core brands I'm really thrilled to talk about. On April 20th, we officially launched our newest housing garden powder product line. It is a dry nutrient lineup aimed toward commercial growers that was built around our highly reputable premium brand housing garden.

early player in the industry and an industry leader in the nutrient category.

Based on professional field trials in a controlled environment, our new house and garden commercial powders produced more yield and higher plant quality than any of the other tested alternatives. We are excited about our team's ability to innovate on our core brands and offer value-added solutions for our retail customers and our commercial customers.

Turning to industry dynamics. In Q1, we experience relative strength from our specialty retail customers, especially in the Western States.

I'd like to note that in California, historically our largest ship to state, it was up sequentially in dollar sales when you compare Q4 of last year to Q1 of this year. We're also seeing strength at APP, our Aurora Peak brand, which has a diverse customer base and also serves non-

cannabis channels. This brand grew double digits on a year on your basis in the first quarter.

We're excited to see the improvement in ATP and our specialty retail in the West. One of our challenges we faced in the Corps was that some commercial customers delayed builds and new projects. As a result, our commercial sales in Q1 fell short of expectations. This is primarily due to the ongoing legislative battles and frankly lack of cohesive legislative support that has been slowing implementations.

in key states like New York and New Jersey, Connecticut, Mississippi.

As we have previously said, for us to achieve our guidance, top-line guidance for the year, we need a modest, seasonal lift in the spring. We also need close to those commercial opportunities in front of us. Now, as we sit here in early May, we have just recently seen a lift in our daily sales.

This seasonal uptick needs to continue and increase through the remainder of Q2 and into the back-ab in order for us to achieve our top-line guns.

In summary, we are laser focused on driving profitability and executing our strategy. As a result of our actions, we're already seeing some benefits as evidenced by our sequential and year-to-year improvement in adjusted gross margin. Profit margin.

We will continue to execute on key initiatives, which include driving a more favorable sales mix by selling and focusing on high margin products.

diversifying revenue stream by further expanding our sales efforts into non-cannabis channels, including CEA, Food and Floral in Law and Garden, increasing productivity across all our manufacturing and distribution centers.

generating cost savings by continually re-examine the size and scope of organization relative to the current industry demand levels, and of course reducing our working capital.

I'm encouraged by our team's discipline and execution during the quarter. The margin improvement we saw in the first quarter is a testament to the success of the recent actions, which have put us in a stronger position in 2023 and beyond.

Thanks Bill and good afternoon everyone. Net sales for the first quarter were 62.2 million, compared to 111.4 million in the prior year period. Driven primarily by a 42.5% decrease in sales volume.

Note that this now marks the second consecutive quarter of reduced year-over-year organic sales declines, dating back to Q3 2022.

We realized that expected a 1.1% price mixed decline in the quarter, resulting primarily from the sell-through of discounted letting products.

Our overall brand mix improved in the quarter. As for proprietary brands, increases the percentage of total sales to 56% from 54% in the prior year. Driven primarily by nutrient sales, partially offset by lower commercial equipment sales.

We did see some other positive trends in the core too. First we saw sequential strength in several key Western states. For example, our total dollar sales in California, Oklahoma, Washington and Oregon all increased sequentially for the first time since mid-2021.

This strength helped our specially retail business outperform internal expectations for the quarter. I'll be as this outperformants in our specially retail channel was mitigated by weaker than expected performance in our commercial channel. Second, our international sales outside of the US and Canada grew sequentially and on a year-over-year basis. Well, international sales make up less than 2% of total sales.

The significance is the placement of some of our house nutrient brands into markets outside the US, which gives us something to build on.

Gross profit in the first quarter was 11.4 million compared to 16.6 million in the year ago period. Adjusting gross profit was 14.1 million or 22.6 percent in the sales in the first quarter compared to 22.3 million or 20 percent in that sales last year.

The increase in adjusted gross profit margin is largely due to improved brand-backs, improved productivity, primarily in our distribution centers, and the fact that we recorded lower immature reserves than last year.

Our Q1 Adjusted Gross Profit Margin Improvement suggests that our restructuring and related cost saving initiatives are making an impact. Again, to these benefits, we realized 1.4 million in pre-text charges in Q1 related to the closure relocation of certain facilities in Canada and China. We do expect to incur additional restructuring charges primarily in Q2 of 2023.

Jelling General Administrative Expense was 24.4 million in the first quarter compared to 40.2 million in the year ago period.

Adjust the desk GNA expenses were 16.2 million a quarter versus 19.2 last year. This 3 million or 15 percent decrease was primarily due to lower compensation costs, resulting from hate down reductions as well as reduce spending with professional and outside service providers.

Finally, adjust to the EBITDA decrease to a loss of 2.1 million in the first quarter from a 3.1 million profit in the prior year of period.

The decrease in adjusted EBITDA was driven permanently by the lower organic sales buying.

Notably, this is the second consecutive quarter of sequential improvement in just the EBITDA. We still have work to do with the sequential improvement, demonstrates the progress of our restructuring and related cost-event initiatives.

We will continue to control what we can in an effort to drive increased profitability through improved brand-necks, distribution center and manufacturing productivity and reduced SG&A.

Moving on to our balance sheet, and overall liquidity position, our cash balance as of March 31, 2023 was 18.7 million.

We ended the quarter with 123.4 million of term debt. As a reminder, our term debt facility has no financial maintenance covenant and does not mature until 2028. And as was also the case for the entirety of 2022, we maintained a zero balance in the company's revolving credit facility across the entire first quarter. Our term debt facility has no financial maintenance covenant and does not mature until 2028.4 million of term debt.

I would also like to note that in March we extended the maturity of our evolving lot of credit to June , 2026. As you see in today's earnings release, our free cash flow on the first quarter improved by approximately 2 million relative to the same period last year. On the first quarter of the same period last year, we extended the maturity of our evolving lot of credit to June , 2026.

This improvement is something we've expected to build on as we move into what are typically the more seasonally favorable cash flow periods of the year.

We estimate total liquidity of approximately 57.7 million as of March 31st comprised of our cash position plus approximately 39 million of available borrowing capacity under our revolving credit agreement. We estimate total liquidity of approximately 35.7 million as of March 31st.

With that, let me turn to our updated full year 2023 outlook.

We continue to expect Nepsales from the range of 290 to 210 million to the full year 2023.

As we discussed in our last earnings call, our sales guide assumed a amount of seasonal lift in early Q2 and year-over-year top-line growth, resuming in the second half of 2023. As you heard from Bill, we have not yet seen enough of the seasonal lift that we previously expected, and we now have a little bit of a gap in our commercial sales that we need to close across remainder of the year.

Our current 2023 sales guidance assumes that the pickup will occur mid to late Q2 and that year-over-year top-line growth will resume in the second half of 2023. As a result, we expect top-line for the second quarter to be modestly higher than the first quarter and we expect our full year sales to be at the lower end of our 290 to 310 million range.

As noted earlier in the call, our adjusted EBITDA and adjusted EBITDA margin has sequentially improved in each of the last two quarters. And today we are reaffirming our expectation for modestly positive adjusted EBITDA for the full year 2023.

We are also reaffirming our expectation for positive free cash flow for the full year.

In closing, we believe we are on the right path to control the controllables while weathering the industry headwinds.

And we remain excited about our prospects for continued improvement in the year-term profitability.

And with that, let me ask the operator to open the line for any questions you may have. Thank you. So now we conduct in their question and answer session. If you would like to ask a question, please press star one on your telephone keypad. A confirmation phone will indicate your line is in the question queue.

You may press star two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Our first question comes from Andrew Carter with TIFO. Please go ahead. Yes, thank you. I just want to drill down a little bit on kind of what you're seeing kind of through April , May. You say you're seeing a lot of people.

I'll start, John , and Phil on the blanks if I leave some there. Yeah, I think in simple terms, April was a little weaker than we'd hoped, and May has started to pick, has really picked it up a bit, which is great to see. So, we're not quite sure if the delay was holiday timing or weather or what it was in April , but...

We think that we've seen now in May the beginning of, and not all the way there, but the beginning of the seasonal lift that we had mentioned on your ride, sort of in that low teams kind of area, which is kind of the average of what we've seen over the last four out of the last five years. So we think it's a...

It's a reasonable assumption, although the industry has been through a tough time in the last six quarters. But yeah, the main numbers have given us some encouragement, but we're only a third of the way through the months, so you hate to put too much credence into that. And that's what we thought it was prudent to get, you know, stay within the guide, but kind of recognize that we're probably on that lower end of the guide at this point.

Second question is, in terms of the pricing, you kind of highlighted last quarter that you were going to have kind of a negative pricing because of the lighting. Could you quantify how much that weighed? And I believe for your expectations are positive price mix. Do we see positive price mix come through in this up in the 2Q? Thanks.

Yeah, thanks, Andrew. I'll jump in on that one. Yeah, we did, as you point out, expect to have negative price mix in Q1. And indeed, it was due to the lighting sales, which was also what we had suggested. No, when we look at the math, if you exclude the discounting lighting sales that we have in Q1.

We do see positive price mix beneath that. So, you know, as we're modeling the rest of the year, we are still modeling positive price mix for the whole year. I'll be if we are a little bit cautious, little bit more cautious than we were before, just because of our call out as we noted today, earlier on the commercial side of our business.

Thanks, I'll pass it on. Thanks, Andrew. Our next question comes from Buu Chapel with truly security. Please go ahead.

Yeah, good afternoon.

Hey Bill. It's great that you're seeing spring lift and encouraging. Just trying to pair that with a big Hawthorne Scotts kind of said they hadn't seen much of a change in daily order patterns since the start of the year. I didn't know if that's...

Competitive, that's just product mix or geographic or anything else we should be thinking about or are you seeing the whole category getting a lift.

Yeah, good question because really what we're seeing is we're seeing the consumables left, right? And that's where the strength of our portfolio is. It also is where most of our businesses, almost 70% is not consumables. I would say that our durable numbers are more like what you've seen from other people. And the reason is that right now we're getting people back into the, you know, repeat purchase of consumables. And that's where we're seeing the consumables.

But the delays in builds and delays in refurbishments and delays in all the issues in the new states and stuff has cost us on the commercial side, which is more durable for us. So yes, it is more about portfolio than it is about seeing that differently.

and bills and delays and refurbishments and delays and all the issues and new states and stuff has cost us on the commercial side which is more durable for us. So yes, it is more about portfolio than it is about a single ad differently than that. Sorry, no that helps.

Sorry, cut out, Deversack. And then in terms of the only reported six weeks ago, the two weeks ago, the posture of the hampers has changed in terms of the...

that just opening up front. But try to understand, you know, if the New York can etiquette stuff like that, if you've seen any kind of further breaks further opening up, any regulations start to fall, things that are moving any faster or it's still kind of all in line with expectations. Yeah, it's still it's still kind of moving slowly in spite of Delaware.

part of the slowness of the commercial business has been these delays. So now we have not seen a lot of progress in those key states.

Got it. Thanks so much. Thanks Bill. Our next question comes from Andra Terria with JP Morgan. Please go ahead. Thank you Thank you, Perrita, and good afternoon there. I just want to kind of go back a bit with

what's happening to the end consumer. If you're seeing downtrading, and I know you don't touch the plans, but perhaps talk about what's happening in the most recent legalized state. I mean it sounds recent, but it was not recent, but just as we see the last mature...

States, if like the whole dynamic between black markets and legalized or dispensaries have changed, if there is any downtrade helping the non-commercial producers in that vein, if you think that there is inventory.

build up to working through outside of lighting and it's you know, you're lining, you're seeing also that kind of like being worked out already, hopefully.

I'll start in the journey to speak to inventory, which I think is largely what you said lighting. But anyway, what I think we're seeing in the short term, and I don't think this is a long term thing, is that if you look at the big MSOs and the guys that are reporting right now, just like we are, you see a lot of them either either shuttered or mothballed a lot of their capacity. And so in this window we're in right now, I think you're seeing a reemergence of your hobbyist and craft grower and...

And you see that primarily through retail stores and through, you know, our businesses still dominantly retail oriented. So, you know, we're certain to see that picking up a bit. And on the flip side of that, the MSO, the commercial side of things, those builds and those, you know, refurbishments are going much slower. So I think right now we're seeing a bit of a...

shift back to the old days, if you will, which is more craft growers and hobbyists and such. And the MSO is the bigger ones, which will ultimately probably be certainly the dominant players in the industry. They're the ones caught up in a lot of this legal stuff. And I think that's happening kind of in the moment that we're in. I think it'll sort itself out in the next few months, but I think that's part of what's going on in the industry right now. And that's...

volume moving into these craft growers, the smaller growers, and volume going into the hobbyist, the home grower, and the great market, if you will. John , you want to cover the inventory piece of Andrea's question?

Yeah, I mean, for sure we've continued to just overall talk about inventory overall, we've continued to work down our inventory levels. I think you see that in this quarter once again from where we stood at the end of last year we're down another $78 million in inventory. And that number should continue to.

to come down as we work our way through across the rest of the year if we're doing our jobs right here. You know, with respect to lighting specifically, I do think that for sure us internally here at HydroFarm, feel like we've worked through a very good portion of sort of the lower technology and a little bit more.

older generation lighting products which tend to carry the highest amount of discounting associated with them. And I think across the industry, I think we're starting to feel a little bit like that stuff is working its way through the system. So, you know, as we, you know, work our way through the rest of the year, we're obviously paying attention to lighting category, but overall we're starting to feel like we're getting...

a lot of the higher risk wedding products behind us, which is good. And that's helpful. One of the things, like how much, and it's across CPG, as you know, but especially in your industry because there's so many layers into the final consumer, so you said that there's this commercial delaying because of the latest relation, other factors.

How much visibility do you have on that? Because it kind of like to your point, it might be anecdotal here and there. You don't know how much inventory of median or nutrients people have in there, in their garages. So how do you know that…

to hit the low end of guide, but what if, you know, what needs to happen, not a lot, and it needs to happen, not to hit that low end of guide, it seems.

Yeah, as we try to be clear, we need that lift to continue and to pick up a little bit, and we need to close some of these commercial opportunities that have been pushed out. If we get those things then we're back at, we're in the guide and we're, you know, back to the numbers we started the year with and, you know, the range that we started the year with. We're still within that range, but we're trying to be as transparent as we can be and say that we expect right now as we see it.

to go to the lower end of that guide. We expect the profitability to be just fine. We expect a free cash flow to be just fine. But to your point on the visibility, we actually have better visibility on the new builds when somebody says they're gonna start a build on May 1st and then they delay it.

You can find that out pretty clearly. When it's a little tougher to tie it to inventories, I don't think it necessarily is. These are oftentimes new builds and new states. And those situations, I'd say new grow and a new opportunity for an MSO or for a craft drower to go into those areas. So it's a little clearer on the commercial side, the pipeline and the back line.

Okay, that's fair. Thank you.

Thank you, Ladies and gentlemen, as a reminder, if you would like to ask a question Please Fred, start one.

There are no further questions at this time. I would like to turn the floor back over to Bill Toler, CEO , for closing comments.

All right, thank you operator and thank you all for your time and an interesting hydropharm and we look forward to speaking with you and working with you going forward. Thanks so much.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.

Time the.